Monday, August 28, 2006

America's Long-Term Fiscal Health

by Calculated Risk on 8/28/2006 03:17:00 PM

Over on Angry Bear, I disagree with former Senators Kerrey and Rudman: Just Say No.

Professor Samwick, a new and welcome addition to Angry Bear, agrees with me: First Things First

"... the appropriate target for the General Fund deficit is for it to average to zero over a business cycle. A corollary to that is that the General Fund should be in surplus during the non-recessionary parts of that business cycle. (A slightly weaker target that I would also accept is that the Debt/GDP ratio not trend upward over time.) This Administration seems to have no problem submitting budgets that don't conform to this target. Certainly the Congress doesn't aspire to a higher standard.

So as much as I would like to see the looming financial crises with entitlement programs averted, CR's requirement of the current leadership in the White House and the Capitol is a reasonable one to impose as a precondition for agreeing to a bipartisan effort to address what will be the most immediate budget issues in a decade or two."
Click on graph for larger image.

This graph shows the increase in the National Debt as a percentage of GDP since 1960. Recessions are shaded.

Note: Since the graph is based on annual numbers, recessions are approximate. Also, the graph uses the annual increase in the National Debt as a surrogate for the General Fund deficit.

Sometimes there were fiscal policy changes at the same time as the recession (like in '61, '81 and '01), but the cyclical increases in the deficit, related to recessions, are very clear.

If the U.S. economy slides into recession next year, the cyclical increase in the deficit, based on previous down cycles, will probably be on the order of 2% of GDP. Another 2% on top of the current 4% to 4.5% Bush structural deficit is close to 6.5% of GDP. And a 6.5% of GDP annual increase in the National Debt, for a $13.5 Trillion economy, is almost $900 Billion per year!

That is why resolving the Bush structural deficit is so important. If the Bush Administration is serious about improving America's long-term fiscal outlook, let them prove it by taking steps to reduce the structural deficit first, before addressing entitlements.